Example: Purchase (Long) the base asset at a price of $10,000 and purchase a Long Put 100 option for $1,000. The strategy is known as a Short Futures Contract since this combination creates an obligation (contract) to sell the DJ Index at the exercise date at its current price (100 points – $10,000).

Expenses / Income from building the strategy

Expenditure of $11,000.

Strategy graph:

Auxiliary table for building the profit line

DJ Index(Horizontal axis)

(Fixed expenses)/ fixed income

Variable expenses(Put contribution)

Base Asset contribution

Total profit / (loss) (Vertical axis)2+3+4

1

2

3

4

5

60

$11,000

$4,000

$6,000

($1,000)

70

$11,000

$3,000

$7,000

($1,000)

80

$11,000

$2,000

$8,000

($1,000)

90

$11,000

$1,000

$9,000

($1,000)

100

$11,000

—

$10,000

($1,000)

110

$11,000

—

$11,000

$0

120

$11,000

—

$12,000

$1,000

130

$11,000

—

$13,000

$2,000

140

$11,000

—

$14,000

$3,000

150

$11,000

—

$15,000

$4,000

Strategy analysis:

Source of profit

The profit arises from the investment in the mutual fund. The profit increases as the index goes up.

Source of loss

Cost of building the strategy – $11,000. However when the DJ Index goes down, we lose on the mutual fund investment but are fully compensated by the Put option.

Break-even point

This occurs at index 110.

Comment

This strategy is a form of purchasing “insurance” against the risk of a fall in the value of the DJ Index shares basket.